Market Update

Much to my chagrin, I have been predicting a major slowdown for the U.S. economy starting in Q1. I never did change my tune, believing as I still do that the fundamental factors that have been propelling this market are without solid foundations. These include, but are not limited to, the housing bubble, the practice of drawing equity out of a home and spending it, the negative savings rate (now 13 months strong), and the focus on mergers and acquisitions (in the U.S.) as opposed to organic growth (as in Europe).

Europe's most developed economies (Germany in particular) have been taking it on the chin from analysts for the last few years. Analysts cite slow growth and high unemployment. My view has been that the European economy has been growing at a sustainable rate. German GDP is now growing at an anual pace of over 2.5% whereas the latest U.S. figure is 1.6%. Emerging markets, like the one I live in, are no longer yielding the huge returns that they did a few years ago. Yet despite the median yield on an investment in the Czech Republic dropping from 16% to about 6% over the last several years, another $1.5 billion in foreign direct investment reached the Czech Republic in 2005. But these high levels of investment are starting to moderate as investors see potential in the more developed economies in Germany and France. German real estate in particular is now poised for a healthy comeback, just as United States real estate is deflating.

Yesterday, the ISM index showed that U.S. manufacturing is experiencing minimal growth, almost stagnation in fact. Construction spending is down .3% and since construction accounts for about 10% of all manufacturing in the U.S., this number weighed heavily on the ISM as a whole.

The equity markets were slow to react to this, but the bond market wasted no time as the yield on the 10-year note dropped to just above 4.54%. This is nearly 75 basis points below the Fed's overnight rate of 5.25% which makes the inversion quite extreme. The best quote I heard yesterday from the bond pit in Chicago was this...

The equity market is sitting in the living room watching television thinking everything is fine while the home office (the bond market) is on fire in the next room.

The Dow is off nearly 50 points in the first hour of trading today. Most of the big retailers missed their earnings targets which is weighing heavily on the market.

Does anyone else smell smoke?

Update: Here are the top five headlines from Reuter's business today.

1. Retailers post disappointing October sales
2. Productivity growth stalls
3. Jobless claims rise 18,000 in latest week
4. Apparel retailers suffer through dreary October
5. Wal-Mart sees Nov same-store sales flat

And the Dow is making a comeback. I guess they don't smell any smoke.